Question

Simply Chocolate Company is considering two possible expansion plans.Proposal X involves opening five stores in North Carolina at a cost of $2,400,000. Under Proposal Y, the company would focus on Virginia and open six stores at a cost of $3,000,000. The following information is given for the two proposals:

                                                                 

                                                                           Proposal X           Proposal Y

Required investment                                      $2,400,000        $3,000,000

Estimated life                                                   10 years              10 years

Estimated residual value                                  $200,000              $200,000

Estimated annual net cash flows                        $450,000             $580,000

Required rate of return                                       14%                      14%

Based on the above following problem,

Required: for each proposal, you are asked to calculate

a.Pay back Period

b.Accounting Rate of Return

c.Net Present Value      

d.Profitability Index

3.Indicate which proposal is the better investment.

Answer 1

Payback period
		X	Y
Investment		2400000	3000000
Divide: Annual cashflows		450000	580000
Payback period		5.33	5.17	years
Accounting rate off return:
		X	Y
Cashflows		450000	580000
Less: Dep		220000	280000
Net Income		230000	300000
Divide: Average investment		1300000	1600000
Accounting rate of return		17.69%	18.75%
NPV:
		X	Y
Annual cashflows		450000	580000
Multiply: Annuity PVF		5.21612	5.21612
PV of cashflows		2347254	3025350
PV of salvage		53948.8	53948.8
Total PV of inflows		2401203	3079298
Less: Investment		2400000	3000000
NPV		1202.8	79298.4
Profitability index
		X	Y
PV of inflows		2401203	3079298
Divide: Investment		2400000	3000000
PI of project		1	1.03
Hence, in all respect, Project Y shall be accepted